June 2, 2022

Inflation is changing the way contractors and designers are getting projects out the door

Photo courtesy of Skanska [enlarge]

Skanska says the high cost of diesel is impacting the cost of excavating and removing soils from sites needing a big hole.

For the construction industry, these are the best and worst of times.

While business is strong in the Northwest, local AEC firms are reeling from the shock of historic inflation, which has seeped into every corner of the industry — from wages to materials.

“In my 32 years in the industry, I have seen nothing as significant as what the industry has experienced in the past 20-plus months,” said Steve Stouthamer, executive vice president of project planning services at Skanska.

Skanska, which tracks indices and monitors material and commodity costs, says inflation is a constant threat.

“There are always ups and downs, and certainly there have been periods where those fluctuations have been more severe,” said Stouthamer. “But we have never seen something as severe and prolonged as we are experiencing now.”

Architects are also responding to new supply side issues, according to Rice Fergus Miller principal Greg Belding. “Standard materials that are essential for putting buildings together are much harder to get,” he said. “We have to rethink actual building systems and assemblies, which in itself adds time and cost.”

Steel products have been affected the most, according to Stouthamer. Products made from metals in almost every category are up substantially since the pandemic took hold two years ago. Many structural steel products are up more than 125% in the past 20 months. Other metal products — copper, aluminum and iron — are all significantly more expensive, many more than 50% greater than two years ago.

“Materials costs have been the primary culprit,” said Stouthamer. “The ENR (Building) Cost Index is 58% higher than in August 2020. Similarly, the skilled labor index is up 5% during this same period.”

In typical years, the ENR Building Cost Index posts an annual average increase of around 3.5%. That number, since spring of 2020, has soared to more than 12% a year.

As revenues have grown for firms such as Skanska, inflationary pressures have hurt the bottom line. Ongoing global supply side issues resulting from the pandemic have coincided with the war in Ukraine to create a perfect storm for construction costs.

And, as AEC firms search for workarounds to inflation, the hits keep coming. The Federal Reserve's dovish monetary policy during the COVID-19 pandemic and its sluggish response when inflation took off in 2021 have exacerbated construction inflation this year. Recent COVID lockdowns in China have prolonged the supply chain crisis and forced construction companies to deal with disruptions.

A recent glimmer of hope is that lumber prices — which skyrocketed four-fold during the pandemic — have come down 50% since their early 2021 highs.

But soaring fuel costs, particularly diesel, have impacted projects, Stouthamer said. A gallon of diesel has more than doubled since September 2020.

“For projects where we're doing large excavations such as civil projects or, for example, downtown projects involving excavating large basements, the rise in fuel prices is having a significant impact on the cost of excavating and removing soils from these sites,” he said.

There also have been significant price increases in products such as heating and cooling equipment, electrical equipment, roofing, insulation materials and drywall. Numerous factors are driving the cost increases, he said. “Early in the pandemic, there were impacts due to a reduction in manufacturing capacity. The pandemic also had a huge impact on shipping and logistics, which remains a challenge. More recently, the war in Ukraine has created concern over future raw material availability, which causes concern for manufacturers.”

At the same time, he said demand for new construction has not let up.

“The overarching issue is demand,” Stouthamer said. “While some traditional markets slowed for a short period of time during the peak pandemic months, most have now recovered and are competing with other red-hot markets that have been growing rapidly.”

For Skanska, some red-hot sectors are not showing signs of easing.

“The data center, distribution, life sciences and semiconductor construction volumes have been massive with no shortage of continued backlog and growth,” he said. “The EV industry is taking off and battery manufacturing, electrical vehicle manufacturing and battery charging facilities projects are beginning a significant growth plan.”

As a result, Stouthamer said developers in all sectors have been assessing the scope and timing of their projects. Some have postponed or canceled projects, but the majority have either reduced the scale of the projects, value-managed components of the projects or increased funding for the projects.

“Probably the biggest trend beyond adjustments to save cost are adjustments to purchasing strategies,” Stouthamer said. “Because of increased demand, the supply chain is strained and many products take much longer to obtain. Products that may have once been off the shelf now may take a few weeks. Products like electrical switchgear have doubled their lead times, and now can take as long as 70 to 80 weeks to get to the jobsite, even though they may only take a few weeks or less to manufacture. They are just waiting in long lines for their turn, due to the heavy demand.”

PROJECT TRIMMING

Architect Kevin Cleary said the No. 1 topic of conversation at industry events is inflation and, more critically, people want to know when will the inflation fever break.

Even seasoned pros like Cleary, a principal at Baylis Architects, said the industry has entered unchartered territory.

“I get asked about inflation at all events I go to, and it really is anyone's educated guess,” said Cleary. “Things will cool off and inflation will settle down, but some areas will get worse before they get better.”

Inflation is a major concern at the early design phases, he said, creating the need for architects to find new levers to pull to offset higher costs.

“We have been seeing increases in mineral wool, tile/stone, wood, doors and windows, fireproofing, appliances and beyond the actual material, the labor and schedule of delivery or install,” said Cleary. “When it comes to alternate materials, architects love to find new products. So, in some respects, it has been an interesting challenge to see what is out there when you cannot choose what you might typically.”

Costs are always a concern for architects, Cleary said, but in recent years design teams have had to react to changing pricing and explore how to keep projects “from getting grossly out of line with the financial goals.”

“Of course, our savvy clients are used to seeing cost increases — but only in an area or two, not nearly across the board,” he said. “Even with a good budget and a logical contingency at the start, we have certainly seen teams have to work hard to adjust to inflation. Certainly, tough choices are being made.”

To combat supply chain issues, construction experts are evaluating the products being used sooner in the design process and ordering those products sooner than later.

“This is being done to ensure the project can still be built in a reasonable timeframe without delays,” he said.

In addition to shifting timeframes, local architects said supply-chain woes are affecting the size of projects.

“Overall, costs have impacted scope,” said Belding of Rice Fergus Miller. “For projects like Quinault, where we had about a 30,000-square-foot footprint, we're only developing 20,000 square feet because the budget doesn't allow us to do the rest. Phasing is now an approach to getting the work done and we are finding things we can lop off the scope to make the project pencil.”

Architects are also changing how projects are getting built.

“We are also recommending alternative delivery methods, because using a typical design-bid-build process in this climate is very difficult because of cost and supply chain issues,” said Gunnar Gladics, a principal at Rice Fergus Miller. “Having a contractor on board for a GC/CM or design-build delivery method is much more successful right now because the contractor is on board early. We can work with them to assess supply chain and other cost implications early, which makes everything much smoother.”

Even some sustainably designed buildings are reflecting a shift in costs. “What we are seeing is that what used to be considered ‘cheap' is now not always so,” said Belding. “One example is chlorine, the cost of which has skyrocketed. It's an essential ingredient for making vinyl windows, and now they are so expensive, they are no longer the most budget-friendly choice. Fiberglass windows are now a more affordable option.”

Cleary concurred that inflation has meant project-trimming sustainability goals. “We have seen project leaders choose to not do an item or two that they would like to have done, in order to help offset the cost of the overall project,” he said. “Everything about this market — with higher costs of land, materials, etc. — has put alternative choices in the spotlight.”

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